Question

please explain and show the formulas

Question 1 (30 marks) The following information is obtained from a company's latest financial statements and other sources: $2 Earnings per share: Book value of Equity per share: Dividend per share: $20 $1 Cost of equity: Cost of debt: Beta: 10% 6% 1.2 You forecast that its earnings and dividends will grow by 10% next year and then by 5% per year infinitely. You also expect the clean surplus condition holds and cost of equity will remain unchanged in the future. Required: 1. Forecast the company's dividend per share in each of the next three years. Use the discounted dividend model to find its value of equity. (15 marks) 2. Forecast the company's abnormal earnings per share for each of the next three years. Use the discounted abnormal earnings model to find its value of equity. (15 marks)

Answer 1

company's stridend per shave for womit three ya 1st year Doolitg) (B) = $. (1+0.10) < $ 1.10 2nd year = Dal Hg) = $1.10(1+0.05) 2$1.10(1.05] (O2) 1:155 3rd year (50) = Doling) z 1.155( 1+0.05) = 1.155 (1.05) 2 1.21275 - value of equity or s under Discounted dovedend modely rate of selonn cloy. Po = Bi + boligy Pi where (Pia Day! (ltr) (1+r) - Doli+go) + 00(1+90)(1+91) . (Ho) (r-gi) (1+y) 110 riig5 1 + 1 10.10-0.05)) os)/(1+0.18) value of equity = 82 $ 20.09) per Share

e) companys abnormal earnings per share for each of the next three years tyr year a $2+ lot. $2.2 end, year = $202+5l. = $2.31 Erd yeasy = $ 2:31+549. = $ 24255 value of equity using disconneted abnormal earnings 2 **65) Cons]/e-town E 2+ (46.27/1.21 2 + 38.18 $ 40.18 per share vale

Two stage Dividend Discount Model DDM

This model is designed to value the equity in a firm, with two stages of growth, an initial period of higher growth and a subsequent period of stable growth.

Assumptions                                                   

1. Higher growth rate is expected the first period.
2. This higher growth rate will drop at the end of the first period to a stable growth rate.
3. The dividend payout ratio is consistent with the expected growth rate.